IBD: Advisers Are Crucial To Evaluating A Family Business

February 22, 2013
By Gary M. Stern, For Investor’s Business Daily
Original Source

When financial advisors evaluate a family business, most focus on its financial value. Its liquid assets, annual performance and impact on retirement savings are what most zero in on. But that’s not the full story of determining a family business’ worth, says Patrick Ring, president of Legacy Partners, a Baltimore-based investment management firm.

The family business must generate healthy returns and rising revenue. But evaluating its full financial value includes succession planning, just like public companies.

At the same time, many family firms avoid succession planning. Deciding who will take over the business when a founder or owner retires is filled with anxiety and complexity. Avoiding the issue can lead to a company’s eventual demise or severe tax consequences.

Too many investment advisers fail to consider “the end game for the business. Is the business going to be retained in family ownership and control, or will it be sold?” Ring said.

Giving Up The Baton

Many owners in their 50s, 60s and 70s are immersed in their business, appreciate the financial returns, and view it as “their baby” or another offspring. They want it to last forever, but it can’t, Ring says.

The financial adviser should ask the long-term owner, “What would you like to see happen to your business?” and then listen carefully to the answer. Most owners will open up and discuss what they’d like to do with their firm in the future. The follow-up question is, “How can we make that happen?”

Most investment advisers are qualified money managers. But deciding the future ownership of the family business, whether it’s a restaurant, hardware store or candy company, is critical to evaluating it.

If the family opts to keep it, ownership can play out in a variety of ways. The owner can devise stock certificates and distribute them to his children, or leave the business to them in trust, or sell it to their offsprings. “If someone pays for the business, they have their skin in the game,” Ring says.

Many long-term owners fear that they won’t know what to do with themselves after they sell. The adviser needs to be sympathetic and explore the options for the next step — a family investment company, a new business, split the business, sell part, keep part, etc. That builds excitement and momentum.

Taxes are also important to consider. “You don’t want to pay more taxes than you have to,” Ring said, and that may include adding a tax expert to the team.

When To Sell

If no children are interested in managing a business, boosting its value to sell is the logical next step. Family businesses often need to be groomed, enhanced and updated to generate additional value. “When investment bankers or buyers review it, it must jump off the page,” Ring said.

When owners turn the business over to children, there are several traps that loom. If an owner transfers control to his children and the sons or daughters don’t want to manage people and aren’t skilled in business, it can tank quickly. “The business can crash and take the owners down with it,” Ring said.

If there aren’t any children or they’re disinterested, other options include selling a business to its employees or setting up an employee stock ownership plan, or ESOP. Owners can also sell 50% of their control to a manager who runs it, while keeping half.
Creating stock ownership and a family council that discusses future control issues can provide a transition while the founder keeps the reins. The family can discuss governance and what it wants to do long-term with it. It can also appoint a separate board that serves in an advisory capacity.

Lincoln Warrell, the 81-year-old chairman of Camp Hill, Pa.-based Warrell Corp., which makes Pennsylvania Dutch, Katherine Beecher and other candy brands, sought investment advice because “we’re in the candy business, not investment management.” Warrell wanted an expert’s financial evaluation on what the family business was worth, despite the fact that his primary goal was to avoid selling it.
Three family members of Warrell’s seven children are involved in the business. Two children and a son-in-law serve as vice presidents in the candy business, though an outsider, Patrick Huffman, is its president and COO. When Huffman retires in two years, Warrell’s children will split his duties.

When investment manager Ring (who’s also a member of the board) outlined the tax consequences of selling the family business to an outside firm, Warrell paid close attention. Succession planning “is an easy subject to avoid. No one lives forever,” Warrell said.
Based on the adviser’s advice, Warrell gave shares of the business to his children, arranged a family council consisting of major shareholders, which meets twice a year. An outside evaluator was also hired to interview the top executives of the company to review how they like their job and where they’d like to be in the future.

But for many business owners, selling or relinquishing control is anxiety-provoking. “Many owners of closely held businesses for 30 years or longer haven’t gotten to the point that they can be excited about what’s next for them,” Ring said. So holding on to it is the easier alternative.

The goal of the financial adviser in such situations is clear: engage the client and become part of the solution.